Covenant-lite loans, so instrumental in fueling the recent boom in take-privates and other mega-deals, have been pronounced dead. So what’s rising to take their place?
On mega-deals, where covenant-lite loans had become most prevalent, it’s tough to say. That market has been just about shut down since the credit crunch started early this summer. But you can bet that, when the market re-ignites, underwriters will be holding much stronger cards given how much harder it’s become to find institutional buyers of leveraged loans.
Terms never got as borrower-friendly on the smaller transactions. Nevertheless, by early this year sponsors were regularly securing covenant-lite loans on upper-mid-market deals with transaction values of $500 million to $1.5 billion. (Definitions of covenant-lite loans vary. But for purposes of this piece they include deals lacking financial covenants, having them on the revolver portion of the loan only, or having them kick in only after the borrower draws down on the revolver.)
Upper-mid-market deals continued to get done this summer and fall, if at a subdued pace. There we’ve seen the return or strengthening of a variety of financial terms designed to give lenders an early warning should performance start to deteriorate, and to give them additional recourse when it does. For lower-mid-market deals of roughly $100 million to $500 million, lenders have also been negotiating stronger financial terms. However, they had given up less ground than those working on larger deals during the boom times that ended this summer.
For the analysis that follows my main source on the upper-middle-market is Christopher Butler, partner in the Chicago office of Kirkland & Ellis LLP; for lower-middle-market deals it’s David Brackett, a senior managing director at GE Antares Capital, Chicago; and Devon Russell, managing director, Madison Capital Funding LLC.
Across the middle market, “Market MACs” have made a comeback after largely disappearing earlier this year. Such clauses let lenders back out of their financing commitments should there be a materially adverse change in, say, their ability to syndicate a senior loan. Market MACs appear in roughly half the deals Brackett works on, and, when they don’t, lenders expect to be compensated with better terms for agreeing to the omission.
All upper-mid-market senior loans now feature leverage ratio and interest coverage ratio covenants, according to Butler. The leverage ratio, typically a total debt-to-EBITDA multiple or senior debt-to-EBITDA multiple, marks a ceiling above which the company lands in technical default on its loan. The interest coverage ratio, often a EBITDA-to-cash interest cost multiple, marks a floor for the borrower.
On all middle-market deals, the leverage ratio covenant incorporates the concept of a cushion. Before the market correction, borrowers might agree not to go more than, say, 30 percent above the opening total leverage ratio for the life of the transaction. Now, according to Butler and Brackett, it’s not uncommon for borrowers to agree to a smaller cushion of 20 percent or 25 percent. In addition, the leverage ratio now typically steps down every year for several years to match the company’s plans to de-lever the company. Senior loans made before the credit crunch often either didn’t feature step-downs or they lasted only a year or two.
The fixed-charge covenant, a free-cash-flow-to-interest-and-principal-payments multiple, remains a staple of lower-middle-market deals. However, whereas earlier this year you might have seen a floor of 1.0 on the better credits, today it’s usually in the 1.10 to 1.20 range, Brackett said. Meantime, interest coverage ratio covenants or minimum EBITDA covenants—a minimum EBITDA that a company must generate—now appear in about half of lower-mid-market deals, up from just a small percent earlier this year.
Below is a rundown on other significant changes in loan terms to look for:
• Capital Expenditure Limit Covenants: Lenders now insist on a cap on the dollars that capital-intensive borrowers can spend on capital expenditures in more than half of upper-middle-market deals, Butler said. In the lower-mid-market, such covenants have returned to about half of capital-intensive deals, up from 10 percent to 20 percent before the credit crunch, according to Brackett.
• Equity Cures: Fall out of compliance with the leverage ratio covenant? No problem if you have an equity cure—a common feature of covenant-lite deals that lets borrowers infuse equity into a deal to return to compliance. You’re still seeing equity cures negotiated in upper-mid-market deals, although lenders may want concessions (such as a higher interest rate). They’ve disappeared in the lower-middle-market, according to Brackett, whereas earlier this year he’d see them in 10 percent to 20 percent of deals.
• Do Not Call Lists: On upper-middle-market deals before the credit crunch, lenders would typically agree, in writing, not to sell their loans to investors known for aggressive loan-to-own tactics. You still see do-not-call-lists in larger deals, but they’re much more narrowly defined: For instance, lenders may insist on a list of no longer than five names. In the lower middle market the practice hadn’t been nearly as pervasive. Today, lower-middle-market lenders still verbally agree to do their best on this score, but no one is putting it in writing, according to Russell.
–By David Toll
Top Three
Dana Corp. (Nasdaq: DCNAQ), a Toledo, Ohio-based supplier of axles, drive shafts and thermal-management products for cars, has obtained fully underwritten commitments for a $2 billion exit financing facility, paving the way for buyout shop Centerbridge Capital Partners to act as lead equity investor. Dana appears positioned to exit bankruptcy protection by the end of January or earlier. Citigroup Global Markets Inc., Lehman Brothers Inc., and Barclays Capital will underwrite the facility, which consist of a $650 million asset-based revolving credit facility and a $1.35 billion term loan facility. The Associated Press reported that Dana also will fund its bankruptcy exit wi! th $790 million in new equity. Centerbridge defeated a bid by hedge fund Appaloosa Management to help finance Dana’s bankruptcy exit. www.dana.com
Global Investment House KSCC’s Global Buyout Fund L.P. has received an aggregate commitment of over $500 million at its initial closing. The fund will seek to take a majority or controlling equity stake in established private and listed companies in the Middle East and North Africa, as well as in Turkey, China, India and Pakistan. The initial closing brings the total funds currently under management by the private equity team to over $1.5 billion. Global ! Investment House said the fund is endorsed by JP Morgan Cazenove and Bear Stearns International. The Global Buyout Fund is a Cayman Islands exempted limited partnership. www.globalinv.net
Frazier Healthcare Ventures has secured $600 million for its sixth venture fund after just 60 days of fundraising, according to VentureWire, published by Dow Jones & Co. The fund, Frazier Healthcare VI, is significantly larger than its $475 million predecessor, which closed in 2005, and will enable the Seattle firm to invest more aggressively in later-stage portfolio companies.
VC Deals
Evalve Inc., a Menlo Park, Calif.-based developer of devices for the repair of cardiac valves, has completed a $60 million Series D financing. BBT Fund LP led the round and was joined by current Evalve investors including, Delphi Ventures, New Enterprise Associates, Split Rock Partners and Abbott Laboratories. www.evalveinc.com
Transport Pharmaceuticals Inc., a Framingham, Mass.-based specialty pharmaceutical company, has launched fundraising for a $35 million Series E to complete Phase II trials for its lead cold sore drug and devise system, according to VentureWire, published by Dow Jones & Co. Current investors — a group including Hillman Co., Quaker BioVentures, Carlyle Group and EGS Healthcare Capital Partners — have pledged to contribute up to $15 million in the round, which is slated to close by the end of February. www.transportpharma.com
As it hunts for a $10 million Series C round, BBS Technologies Inc., a provider of systems management software products, has acquired Righteous Software Inc. to expand its offerings into open source. Details of the acquisition, which closed Tuesday, were not disclosed. According to VentureWire, published by Dow Jones & Co., Austin Ventures is the sole institutional backer of BBS, having invested $12 million in the company to date. The firm owns a minority stake but is the largest shareholder. Righteous Software, which operates as R1Soft, is a provider of backup and recovery tools for Linux and Windows servers and MySQL databases. www.bbstek.com
F-star, an antibody engineering company developing novel antibodies and antibody fragments based on its modular antibody technology, has raised EUR 3.0 million from Novo A/S in a second closing of its Series A financing round, originally co-led by Aescap Venture and Atlas Venture. After this closing, the round has raised a total of EUR9.0 million. In total, the company has raised EUR 13.0 million. www.f-star.com
I Love Rewards Inc., a Web-based reward program provider, has completed a $3.3 million Series A financing round with JLA Ventures, Laurence Capital and other angel investors. www.iloverewards.com
RadPharm Inc., a Princeton, N.J.-based provider of medical image review services for clinical research, has completed a $10 million Series B financing led by SiemensVenture Capital. Existing investors Ampersand Ventures, Adams Street Partners and Tang Capital Management participated in the financing. www.radpharm.com
Hercules Technology Growth Capital Inc. (Nasdaq: HTGC), a Palo Alto, Calif.-based specialty finance company providing venture debt and equity to venture capital and private equity backed technology and life science companies at all stages of development, has announced that it provided $25 million of debt financing to Zayo Bandwidth., a Louisville, Colo.-based provider of fiber based bandwidth services, on Nov. 7. www.HTGC.com
Calabrio Inc., a Minneapolis-based provider of work force optimization and unified desktop software for IP-based contact centers, has closed an $8 million Series B round of financing from BlueStream Ventures and Split Rock Partners. The financing coincides with Calabrio’s formal spin-off from Spanlink Communications on Nov. 1. www.calabrio.com
Quantenna Communications Inc., a Sunnyvale, Calif.-based semiconductor company that makes chipsets for wireless technology, has closed series B funding of over $12.7 million led by new investor Sigma Partners. The round, which includes another new investor Grazia Equity, along with previous investors Sequoia Capital and Venrock Associates, brings Quantenna’s total financing to approximately $25 million. Additionally, Fahri Diner, managing director of Sigma Partners, has joined Quantenna’s board. www.quantenna.com
U.K. in-vitro diagnostic company Vivacta Ltd. has closed a $12 million Series B financing round to fund the clinical trial and launch of its first point-of-care testing product, TheDeal.com reported. Investors include French-based AGF Private Equity, Switzerland’s HBM BioVentures AG, Viking Venture AS of Trondheim, Norway, and Spark Ventures plc of London. The announcement follows a $6 million Series A funding round for what was then PanOpSys Ltd. in March 2006. The company was rebranded Vivacta in August 2006.
Snooth Inc., a wine review site, today announced $1 million in angel funding from the company’s initial backers, as well as a new group of international investors. This is the company’s second round, following an initial $300,000 raised in December 2006. The new funds will be used to scale the development team, integrate the current backlog of merchants that have already partnered with Snooth, and add new retailers worldwide. www.snooth.com
Buyout Deals
Axcan Pharma Inc. (Nasdaq: AXCA), a Canadian-based pharmaceutical company focused on the treatment of gastrointestinal disorders, has entered an agreement to be acquired by TPG Capital and its affiliates in an all-cash transaction with a total value of approximately $1.3 billion. TPG Capital and its affiliates will acquire all of the common shares of Axcan for $23.35 a share. Axcan anticipates the transaction will close during in the first quarter of 2008.
AADCO Automotive Inc. which operates an automotive recycling yard in Brampton, Ontario, is restructuring, and selling its recycling operations to a private investment firm. AADCO Automotive’s main operating subsidiary, Aadco Vehicle Disposal Service Inc., will be purchased by Quorum Secured Equity Trust and Quorum Investment Pool Limited Partnership, according to eSource Canada Business News Network. The sale of the subsidiary is not final until it rece! ives approval by AADCO Automotive shareholders at a meeting scheduled for Dec. 28.
PE-Backed IPOs
Paradigm Ltd., a Cayman Islands-based maker of software for the oil and gas industries, has withdrawn its plans for an initial public offering of $200 million. TheDeal.com also reported that Paradigm did not give a reason for scuttling the offering, but suggested it may pursue an IPO in the future. Foster City, Calif.-based Fox Paine & Co. LLC owns 92.3 percent of Paradigm, acquired in a 2002 take-private transaction.
MedAssets Inc. has set the terms of its initial public offering at 13.3 million shares with an estimated price range of $14 to $16 a share. The company expects its shares to trade on Nasdaq under the symbol MDAS. The Alpharetta, Ga.-based manufacturer of medical technology-enabled products listed Morgan Stanley and Lehman Brothers as lead managers of the $199.5 million offering. www.medassets.com
China Pacific Insurance (Group) Co., which is part-owned by private-equity firm Carlyle Group, plans to issue 1 billion A shares that will trade on the Shanghai bourse, according to Dow Jones & Co., . In a draft prospectus posted on the China Securities Regulatory Commission’s Web site, the country’s third-largest insurer by premiums didn’t give a timeframe for the offering, but said it plans to issue up to 900 million H shares soon after the domestic IPO. www.cpic.com
VanceInfo Technologies Inc. has filed with U.S. regulators to raise up to $120 million in an initial public offering of American Depositary Shares, according to Reuters. Citigroup Global Markets, Jefferies & Co, Merrill Lynch Pierce, Fenner & Smith and Susquehanna Financial Group will act as the underwriters to the offering. www.vanceinfo.com
PE Exits
Clorox Co. (NYSE: CLX) has received antitrust approval to acquire Burt’s Bees, a Morrisville, N.C.-based maker of lip balm and beauty products, for $925 million. Roxanne Quimby sold 80 percent of Burt’s Bees to New York-based buyout firm AEA Investors in 2003. www.clorox.com
Injazat Capital Ltd.’s Injazat Technology Fund, a private equity fund specializing in information and communication technology investments in the Middle East and North Africa, has exited its investment in Omnix Media Networks, a digital media and technology solution provider. According to Middle East Company News, ITF sold its shares in the company to Omnix International, securing an IRR of 31 percent for its investors. ITF acquired the stake in December 2003, and had helped the company complete a st! rategic merger with Promedia, a specialist in the audio/visual and IT systems installation sector. www.injazatdatasystems.com
PE-Backed M&A
Harsco Corp. (NYSE: HSC), a Harrisburgh, Pa.-based industrial services company, has signed a definitive agreement to sell its gas technologies business, Harsco GasServ, to Wind Point Partners for a total purchase price of $340 million, with $40 million payable in the form of an earnout, contingent on certain performance targets in 2008 or 2009. The transaction is expected to close in the near future and has already received regulatory approval. www.harsco.com
New York-based private investment firm Global Technology Investment and construction firm Punj Lloyd have bought 33% stakes each in Airworks India, the Economic Times reported. Airworks, a Mumbai-based company, is one of the oldest family-owned aircraft maintenance firms in India. The Menon family that owns Airworks, will retain the remaining 33 percent stake. www.airworksindia.com
A group including ValueAct Capital on Monday reported increasing its stake in Steinway Musical Instruments Inc. to 10.5 percent from 9.1 percent. LBOWire, published by Dow Jones & Co., also reported that the ValueAct, a San Francisco private-equity firm, beneficially owns 847,421 shares of Steinway, according to a Securities and Exchange Commission filing. www.valueact.com
Firms & Funds
Ithmaar Bank, Shamil Bank and Islamic Investment Company of the Gulf (Bahamas) – (IICG) have met their target of raising $200 million for the first closing of their $500 million Aldar Private Equity Fund, according to Mist News. The closed-ended investment fund, established under the laws of the Kingdom of Bahrain, provides investors with the opportunity to access alternative asset investments globally, covering real estate, the general private equity sector and, possibly, Sharia-compliant hedge funds. The fund will have a special emphasis on the high growth regions of the Middle East. www.ithmaarbank.com
Investcorp’s U.S.- based real estate group and affiliates of Broadway Partners, a private real estate investment and management firm based in New York, have purchased 280 Park Avenue in New York City, the home of Investcorp’s U.S. base. Financial terms were not disclosed. This transaction represents the fourth property acquired by Investcorp and Broadway Partners in their four-year history as joint venture partners. www.investcorp.com
Frontline Strategy Ltd., a Mauritius-based asset management firm, has launched a $200 million fund that will invest in small-and medium-sized enterprises in India. The fund, India Industrial Growth Fund, will invest in India’s SMEs, with each investment likely in the $10 million to $12 million range.
Human Resources
Piper Jaffray Private Capital has added Mike Pohlen to the firm’s fund of funds team. Pohlen will be responsible for evaluating, implementing and monitoring venture capital, leveraged buyout and direct investment opportunities. Pohlen was previously a vice president in investment banking at Piper Jaffray where he focused on lower-middle-market mergers and acquisitions. www.piperjaffray.com
Communication Intelligence Corp. (Nasdaq: CICI), a Redwood Shores, Calif.-based supplier of electronic signature solutions for business process automation in the financial industry, has named Garry Meyer a director. He will also chair the company’s best practices committee. Meyer is a principal of GSMeyer & Associates LLC, a private equity and technology consulting firm. www.cic.com
Castro Cheese Company Inc. , a Houston-based manufacturer, marketer and distributor of Hispanic cheeses and creams, has named Ricardo “Ric” Alvarez president and chief executive officer. He assumes the role previously held by interim Chief Executive Officer J. Robert Hall. Castro Cheese was acquired by Palladium Equity Partners on Aug. 31, 2007.
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